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Economic and market analysis from Putnam's Asset Allocation, Fixed Income, and Global Equity teams.

  • Key takeaways

    Global equities endured their most challenging quarter in years, and the market's extraordinary advance of previous quarters came to an end with significant volatility. For the first time since 2011, major U.S. equity indexes experienced a correction, defined as a decline of 10% or more from a recent high. Stocks recovered from their August lows and ended the quarter with a decline of 6.44%, as measured by the S&P 500 Index.

    China's surprise currency devaluation sparked the recent selloff in equities, but market observers are still struggling to gauge the level of China's economic distress. Ominously, the Chinese government tried various policy tactics, including interest-rate cuts, stock market interventions, and more spending, but these efforts to restimulate growth and calm investors generally failed to halt the market rout. So it is difficult to say if the worst is over, but we do expect more volatility in global markets in the months ahead.

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  • Key takeaways

    Recent stock market volatility has been in part a reflection of global uncertainties. But while market deterioration is unsettling, we don't believe the recent downturns portend a structural slowdown of growth in the United States.

    We expect that economic data will slowly continue to improve in the United States, Europe, the United Kingdom, and Japan. In this context, and given attractive valuations, we remain open to adding new positions in our portfolios whenever our fundamental research uncovers compelling investment opportunities.

    We also conclude that the eventual rate-hiking cycle is likely to be moderate and that policy will remain easy even after a hiking cycle has begun. In the near term, we see the Fed as highly likely to hike, unless risks to the Fed's outlook increase by far more than seems probable. We also believe the dollar's strength will effectively tighten financial conditions, which may mean the Fed will wind up being cautious in its rate-raising campaign.

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  • Key takeaways

    We like to remind investors that it's impossible to predict which asset class will lead — and which will lag — one year to the next. This chart shows the returns of nine asset classes arranged from highest return to lowest each year. Each asset class is a different color. So, for example, U.S. bonds are yellow, and international stocks are blue. You can see at a glance that the only pattern is that there is no pattern.

    The reason why so many financial advisors recommend diversification is precisely because there is no telling what the market is going to do from one year to the next. Diversification doesn't guarantee a profit, but by owning more asset classes, you have a better chance of owning the top-performing investments — or at least not owning too many of the worst-performing investments. Diversification can be obtained by assembling a number of different kinds of funds, but it can also be achieved within funds that have flexible mandates.

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  • Key takeaways

    One of the perennial concerns of investors is inflation, and for good reason. Inflation erodes the purchasing power of investment returns. Recently, inflation has been low by historical standards, but it's worth watching for this reason: Since 1913, there have been nearly 50 years in which inflation was between 1% and 4%.

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  • Key takeaways

    We believe the Fed is likely to begin raising rates sooner rather than later. Once the central bank begins to raise the federal funds rate, we believe it will make every effort to do so in an orderly, well-communicated fashion in an effort to avoid major market disruption.

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  • Key takeaways

    The previous slide showed the federal funds target rate, which is the target rate the Fed sets for overnight intrabank lending. This chart highlights some areas of potential opportunity, showing the difference in yield — also known as a “spread” — between different sectors of the bond market and U.S. Treasuries. When spreads are high, it means investors are demanding additional compensation for taking on the risk associated with that sector of the market. (Treasuries are backed by the full faith and credit of the federal government.)

    The gray columns show the average spread for a variety of sectors during the 10 years before the financial crisis. Even with the recent narrowing, spreads today in some sectors are higher than they were before 2008. When spreads decrease, or “tighten,” investors who already hold positions in spread sectors generally benefit, as the lower yields reflect higher prices. The difference in the yields is shown in the yellow columns and is measured in “basis points.” One hundred basis points equals one percentage point, so the current high-yield spread of 698 is actually 6.98 percentage points above Treasury yields.

    The largest spreads are highlighted in the shaded box. Those include certain types of mortgage-backed securities that delivered poor performance when the housing market declined, but that today offer high yields in an environment of slow but steady recovery.

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  • Key takeaways

    This slide drills down a bit into the higher yields we saw earlier in high-yield bonds. Historically, the “spread” in the high-yield bond market has tended to follow the default rate. (The spread is the difference in yield between the sector and Treasuries.) That makes a certain amount of sense, because investors in high-yield bonds are being paid more to compensate for the fact that these bonds have lower credit ratings and are more likely to experience defaults — a situation in which the company that issues the bond fails to make payments of interest or principal. The default rate remains low by historical standards. Investors who own high-yield bonds would benefit from a contraction in the spread, as the prices of bonds in the sector would rise as yields fell.

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  • Key takeaways

    Outside the United States, we think emerging markets are likely to remain under pressure for some time. As the biggest buyer of commodities from many EM countries, China's economic slowdown is having a major impact on many other developing economies, such as Brazil, South Africa, and Malaysia. Capital has been flowing out of EM countries seeking better investment opportunities, primarily in the United States. This capital outflow is forcing some EM nations to devalue their currencies or dip into their foreign-currency reserves to defend their exchange rates.

    Although capital outflows have moderated somewhat more recently, the authorities across EM are struggling with weak commodity prices, stressed financial asset markets, falling exchange rates, and weakening economies. In some, this unhappy economic configuration is interacting with difficult political circumstances. In our view, some countries are much better placed than others: Poland, for example, looks steady, and Mexico appears to us to be well positioned. But Brazil, Indonesia, and South Africa have to contend with far more difficult conditions.

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  • Key takeaways

    During the 2008 credit crisis, the “spread” — or yield advantage — other segments of the municipal bond market offered over top-rated AAA securities increased dramatically, indicating that investors were demanding significantly more income for taking the risks they perceived in those parts of the market. While spreads have tightened significantly since then, in certain parts of the market they remain above normal, suggesting there may be compelling investment opportunities for active managers.

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  • Key takeaways

    For several quarters, we have observed that equity valuations were approaching the top quartile of their historical averages, and we believed that investors should be cognizant of the risk of a market correction. However, during bull markets it is not unusual to have downturns of the magnitude seen in the third quarter. The S&P 500 had gone 1,326 calendar days without an official correction, defined as a decline of 10% from a recent high. Not only was it overdue, the decline was likely a healthy development. We now see many investment opportunities that were nonexistent just a few months ago.

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  • Key takeaways

    In the United States, since the recession, companies have become more financially healthy, paring down their debt and expenses and growing earnings. U.S. companies also have begun to show more top-line, revenue-related profit growth. One way to measure that change is in the number of companies that have decided to initiate or increase the dividend they pay to stockholders.

    This slide shows that since 2010, the number of S&P 500 companies that have decided to increase their dividend payments to shareholders has been steadily on the rise. Meanwhile, the number of companies ceasing payment has declined. Paying or raising dividends is one sign of positive corporate health and typically means that a company has excess capital that it can afford to distribute to shareholders.

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